This Week's "Noise"
November’s Consumer Price Index (CPI) and Producer Price Index (PPI) come out this week, giving us a glimpse into what inflation might look like for the Fed's preferred measure of the PCE later this month.
All eyes are looking ahead to next Thursday’s FOMC meeting and the expected 25bps fed funds rate cut.
Current Market Outlook (6 to 12 months)
Market
Although we've mentioned these notes before, the yield curve has been restored to normal. When market experts refer to an inversion, they typically speak of the two-year and 10-year treasury yields. If there is an expected 25 basis point (0.25%) cut on the Fed funds rate next week, we will see a normal yield curve restored for the Fed funds rate (and likely the 1-year rate) and the 10-year treasury yield. This would indicate that the 10-year treasury rate at roughly 4.2%
The last time the S&P 500 had back-to-back 20%+ return years was 1995 and 1996. This will be just the fourth time in the past 100 years. Although we don't know the outcome for this year, we would expect a third straight year to be unlikely. We should be expecting more moderate-high single-digit returns in 2025. More to follow during our annual market outlooks, which are just a month away (Barrons).
Economic
Earnings per share (EPS) are estimated to be close to $241-$242. Surveys of economists and market analysts predict 2025 will see that number move closer to $268-$274 or 11%-13% EPS growth. The underlying economic situation looks strong. As referenced in the previous section, the yield curve is no longer inverted; historically, this change bodes well for economic activity in the months following. The caveat is that the US economy is often experiencing or about to experience a recession at this point in the rate cycle. In this case, we are experiencing lower growth rates than in previous years.
Inflation should continue to trend downward. However, do not mistake this for lower price levels.
Tariffs are seemingly the latest political football. On our Thursday call, we showed a chart that referenced how we think tariffs will affect the economy overall. In short, most of the tariffs put in place during 2017-2018 seemed haphazard and caused confusion as they were being doled out. If the administration rolls out a short, succinct proposal, it will create a one-time adjustment to inflation and ultimately cause no oversized changes to the rate of inflation. The tariffs leveled particularly against China in 2018 did not cause massive new inflation. And with most of those tariffs still being active they've also not hindered the decline in inflation for the past several years. According to Goldman’s research, the proposed tariffs would reflect roughly a one-time 0.3% or 0.4% increase to core PCE. In the unlikely case that the administration gets a 10% tariff on all foreign goods, that would result in roughly a 1% increase in the rate of inflation for a single year. In any case even the most fanciful proposals likely will be unable to derail American economic progress.
Long-Term View (4 to 7 years)
We believe the US economy will continue to outperform other world economies in the long term. This is supported by a combination of re-shoring manufacturing, new investments resulting from the Inflation Reduction Act, US energy independence, and higher productivity due to implementing Artificial Intelligence (AI) software/systems.
Due to the strong 2024 returns (+24% for the S&P 500), we are adjusting our longer-term outlook for the US stock market accordingly (FactSet). We believe the S&P 500 index should be 7,000 to 8,000 by the end of 2028. This represents an approximately 20% to 40% return from the current level.
Bonds have re-emerged as an important part of asset allocation as yields have risen. We expect a diversified bond portfolio to produce returns 3% to 5% above inflation for the next 5 to 7 years.
We currently estimate that the net worth of American households rose by $2.8 trillion in the third quarter to a record $157.2 trillion, or roughly $446,000 per head. Total net worth is up 11% over the past year and 47%, (or a staggering $50.1 trillion), over the past five years, easily outpacing an estimated 23% increase in consumer prices and a 35% increase in personal income over the same period.
This wealth surge has come from both stocks and housing (Dr. David Kelly, JPMorgan Asset Management, September 30, 2024).
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The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.
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